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Husband and wife may own different types of assets (community, quasi-community and separate property) based on where and how the assets were acquired. They may own the property as community property or quasi-community property. In addition, either spouse may own separate property. For estate planning purposes it is important to analyze a couple's assets and to take into account these different types of assets when planning each spouse's estate.
It is sometimes difficult to visualize the difference between how people take title to assets and how these assets are acquired. Property ownership is based on when and where assets are acquired, rather than title to these assets. A couple may hold title to assets as joint tenants, but the assets may have been acquired during marriage and may be community property in terms of the "source" of the assets.
California is one of nine states that have community property forms of ownership for husband and wife. California community property is defined as assets acquired by husband and wife during the course of their marriage from the earnings of either while residents of California or another community property state or country.
A couple lives in California. The husband's salary is community property. If the couple uses the husband's salary to buy a home, stock, or other assets, these assets would be community property. The earnings on community property are also community property. If the couple purchased stock with his salary, the stock would be community property. The dividends paid on the stock would also be community property since the stock was community property. If the stock was sold and a profit made, the profit would also be community property.
Whenever a person looks at an asset, the question arises as to where the funds came from to purchase the asset. If the purchase price can be traced back to community property, the asset, any earnings, and any profit upon sale, are be community property.
All earnings during marriage and all fringe benefits are considered community property. John Doe is employed during marriage in California. His employer provides company paid life insurance and contributes to both a corporate pension and profit sharing plan. The life insurance and the pension and profit sharing plan would be community property because the funds that went into them were community property.
Husband and wife are the co-managers of the community property and either spouse at death can will away his or her half of community property assets. Each asset is usually looked at separately so if the wife dies and wills away her half of $800,000 of community property to her children, the children do not receive $400,000 of selected assets but one-half of each individual asset, such as one-half of the home and one-half of each issue of stock.
The couple can change community property around by written agreement so that it becomes the separate property of either spouse, or they can divide it so each spouse takes one-half of the community property assets and it then becomes each spouse's separate property.
California is one of the few states that have a second type of property defined as quasi-community property. These assets have been acquired in a non-community property state or country during marriage and would have been community property if the couple had resided in California. By moving into California these assets become quasi-community property and at death the surviving spouse is entitled to one-half of these assets.
A husband and wife reside in New York State. Under New York State law, the husband's earnings are considered his separate property. The couple retires and moves to California. If the husband dies before the wife, at least one-half of these assets, which are now considered quasi-community property at his death, must go to the wife. If the wife dies first, she cannot dispose of any of these assets because they belong to the husband until his death.
Earnings and capital gains from quasi-community property are also quasi-community property. Whoever earned the assets would be the sole manager of these assets until death.
For most purposes, quasi-community property is treated similarly to community property.
Either spouse may also own separate property. Separate property is defined as assets owned by the person at the time of marriage and any assets acquired after marriage by gift or inheritance. Mary Doe marries and owns $250,000 of stock and bank accounts. These assets plus their earnings and profits, if sold, are her separate property. She is the sole manager of this separate property and at her death she can will these assets to anyone she wishes. She does not have to leave any of the assets at death to her husband.
After Mrs. Doe's marriage, her mother dies and Mary inherits $400,000 of stock. All of this stock is her separate property. Her father gives her $10,000 per year for several years before he dies. These gifts are also her separate property.
Many couples are concerned that when they both die and a child inherits a share of the couple's assets, the child's spouse will somehow obtain these assets. The child can leave his or her separate property to anyone he or she wishes at death, but until death it remains the child's separate property. At death the spouse has no rights to any of the separate property unless it is left to him or her, or unless the child dies without a will, in which case the spouse will inherit part of the child's separate property.
Separate property can be converted to community property but since January 1, 1985 it can only be converted by a written agreement. It cannot be converted by an oral agreement. Prior to 1985 oral agreements to change separate property to community property were valid and are still valid if made prior to 1985. If one spouse claims a pre-1985 oral agreement, then the court may have to decide if there really was such an agreement.
A couple may execute a written agreement to change the character of their property. They may execute a pre-nuptial agreement before they marry. During marriage the couple may sign a community property agreement or they may execute a post-nuptial agreement. All of these agreements are valid if properly executed.
As the name implies a pre-nuptial agreement is an agreement entered into by a couple before marriage. It defines what each spouse owns at the time of marriage in terms of his and her separate property and also lists any separate debts that each spouse has.
In most cases a pre-nuptial agreement recites what California Law provides if no agreement was made. In a few cases it changes the character of the assets acquired after marriage. It may provide that the husband's or wife's salary after marriage will be his or her separate property and not community property. It also can provide that in the event of divorce the wife (or husband) waives spousal support or receives a pre-set lump sum in lieu of monthly support.
Such an agreement is binding provided that both spouses have each been separately represented by an attorney who advised that person as to his or her rights (one attorney cannot advise both parties). If that is done, the courts will normally not interfere with the agreement. If the wife were required to sign an agreement before marriage giving up any rights to future community property and she was not represented by a separate attorney, then the courts could invalidate the agreement.
Many couples sign a "community property agreement." This is a written document which states that all assets no matter how titled, are community property assets and will be treated as community property at death. This written agreement overrides title holdings so that if a couple has assets in their names as joint tenants or in the individual name of either spouse, the agreement changes this so that it is the same as if all of the assets were registered as community property.
If either spouse signs a community property agreement and has separate property, the separate property now becomes community property, unless the agreement states otherwise.
The advantage of signing a community property agreement is that it allows either spouse at death to will away his or her half of the community property. Had the assets stayed in a joint tenancy registration, the assets would have all gone to the surviving spouse as the surviving joint tenant.
Changing assets to community property also changes the income tax basis at death. Both halves of the community property assets get a new or stepped up cost basis at the death of the first spouse. If the assets remained titled as joint tenancy assets then only one-half of each asset would get a new cost basis at death.
Many couples sign community property agreements without getting advice from their attorney, accountant, or financial advisor. Such an agreement should not be signed unless the couple understands the ramifications of such a change. Again, if either spouse had separate property and unless the separate property is itemized in the agreement as that spouse's separate property, it will be converted to community property. In the case of a divorce, one-half of these assets will wind up staying with the other spouse.
It is important for a couple to list any separate property that either owns. If either spouse had a small amount of assets at marriage, such as $5,000, this may be disregarded. Any larger amounts should be kept separate unless the couple gets professional advice and unless the spouse has advice as to whether he or she should convert the separate property to community property.
If all of the couple's assets are community property and/or quasi-community property then generally no change needs to be undertaken, other than to make everything community property.
If the couple decides to change assets so that everything is community property, it can be handled in one of several ways. Assets can be changed so that the title is in the couples name as "community property." Assets may also be transferred into a living trust with a schedule listing the assets transferred as "community property." Or the couple may execute a community property agreement stating that everything they own is community property.
In all cases, before executing any agreement or changing ownership between community and separate property, a couple should obtain advise from their attorney as to the ramifications of such a change.
© Milton Berry Scott, 1998- 2005
Revised 6/21/05